Economist, Telegraph Columnist, Broadcaster

Threats against Russia are stuck in the past

I’ve been struck in recent days by the growing gulf between conflicting points of view towards the crisis in Crimea. I’m not referring to the firmly held differences in opinion between respective governments in London and Washington on the one hand and Moscow on the other. What I have in mind, after numerous conversations and broadcasts about Russia and Ukraine over the last week, and having closely followed events in this region for many years, is the polarization of opinion within the West itself.

As far as our politicians and diplomats are concerned, Russia remains the Cold War enemy, our implacably foe, where little or nothing has changed since US President Ronald Reagan dubbed the Soviet Union “the evil empire”. Never mind that the USSR collapsed almost a quarter of a century ago, or that it was 31 years ago yesterday that Reagan made that speech.

Who cares if post-Soviet Russia has transformed itself, via the chaos of the 1990s, from a closed, sclerotic, planned economy based on armaments and commodities, into a nascent capitalist society, well-integrated into global commerce and, unlike any other large emerging market, with a fully-open capital account?

One constantly reads the Russian economy is based on nothing but oil and gas. Really? As the world’s largest producer of hydrocarbons, and with monster reserves that are relatively cheap to access, Russia is clearly an energy superpower. But the production of hydrocarbons, having been 45pc of national income back in the late 1990s, has fallen to 16pc today – lower than Norway.

Over the last 15 years, Russia’s GDP has expanded ten-fold in dollar terms, from $200bn to over £2 trillion – creating the eighth-largest economy on earth, or sixth on a PPP basis, adjusting currencies for purchasing power, ahead of the UK and France. The energy sector, contrary to the stereotypes, has grown rather slowly during this period.

Far from oil and gas, it’s been transport and infrastructure, agriculture, retail trade and financial services that have led the charge, all of them expanding much faster than energy production. Russia’s service sector, almost non-existent in Soviet times, is now a staggering three-fifths of GDP – outstripping oil and gas almost four-fold.

Defense spending, having been heavily curtailed, is now half that of China and a mere eighth that of the US. And while opposing Western intervention in Iraq and Afghanistan (as did much of the rest of the world, including fellow UN Security Council member China), Russia has anyway remained a staunch Western ally, in terms of logistics and information sharing, during the “war on terror”.

For denizens of Westminster, Whitehall and (especially) Capitol Hill none of that matters. “Soviet Russia” is a belligerent, oil-and gas-soaked monolith, intent on re-igniting Cold War hostilities. Such a mind-set seems compulsory among Western political and diplomatic classes, a badge of honour. To think of Russia in any other way, to show a detailed knowledge of the country’s economy or post-Soviet history, to state the undeniable importance of our commercial links, or even to refer to the seismic changes since the days of ghastly Soviet dictatorship is to be seen as weird and even treacherous.

I’m trying to get beyond the knee-jerk condemnations and allegations that are the stock-in-trade of megaphone diplomacy, to respond in a way that’s more fact-based, constructive and less likely to provoke military conflict than the tough-guy sabre rattling of high politics.

When I say that Russia is one of the world’s most important economies, somewhat different from the days of Khrushchev, Brezhnev and Andropov, and presenting huge commercial opportunities, I’m expressing the views of numerous Western business leaders. Few will put their heads above the parapet, of course, but that doesn’t stop them being exasperated by our political posturing.

This growing split between the West’s “official” position on Russia, and what knowledgeable business leaders want, is perfected illustrated in last week’s debate over sanctions. John Kerry condemned Russia’s actions in Crimea, where it has long had tens of thousands of soldiers legally stationed in Sevastopol and other military bases, as “a brazen act of aggression”. The US Secretary of State, backed by Foreign Secretary William Hague, then warned of harsh retaliation in the form of an economic squeeze.

Threatening such sanctions was “pretty mad”, I argued on BBC Radio 4’s Today Programme. Why? Well, partly because Western Europe’s trading links with Russia are now so strong that sanctions would be ruinously counter-productive and we would never go through with them. And pointless threats make us look weak.

Everyone now knows that Russia supplies more than a third of Western Europe’s oil and gas, but few realize the extent of trade beyond that. Russia is the EU’s third-biggest trading partner, with combined cross-border commerce of $460bn last year. America’s trade with Russia was less than a twelfth of that – one reason why US sanction rhetoric is far stronger.

Even in the States, though, there is now a strong corporate lobby that has invested very heavily in Russia. US thoroughbreds such as Ford, GM, Boeing, Procter & Gamble, Pepsi and John Deere have between them sunk tens of billions of dollars into Russia-based production facilities, as have several US oil majors. It was the power of such companies that eventually forced Congress in 2012 to remove its veto and end Russia’s 18-year application to join the WTO, by far the longest wait in the multi-lateral’s long history.

While UK trading links with Russia remain rather small, and largely focused on oil and gas, it’s the Russo-German commercial relationship that’s crucial. Ignoring the Anglo-Saxon rhetoric, and with great skill and determination, a myriad of German firms have built extremely lucrative trading links with their Russian counterparts over the last 20 years, the benefits of which are only just beginning.

VW now has several full-cycle production plants and has become the middle-class brand of choice in what will soon be Europe’s largest car market. The likes of Siemens and engineering giant Liebherr are ubiquitous in Russia too, as are thousands of smaller, privately-owned German companies.

Across Russia’s far-flung regions, the “mittelstadt” is extremely well represented in its huge Eastern neighbor, making and selling everything from machine tools to plasterboard. Russia is already Germany’s biggest single-country trading partner and such commerce is set to spiral, as this country of 145m, well-educated in the scientific and technical disciplines many Western nations now lack, dusts itself down and continues the long process of rescuing its now low-tax and free-wheeling economy from the days of Soviet neglect.

This is one reason why Berlin is so opposed to sanctions and why it’s Chancellor Merkel who is best-placed to negotiate with Russia, and try to ease diplomatic tensions as this Crimean stand-off hopefully returns from the brink. Another source of Berlin’s strength, of course, is that Germany now has “Nordstream”, its own bi-lateral gas pipeline to Russia, which makes it far less vulnerable to the vagaries of gas transit routes crossing Ukraine, upon which the rest of Western Europe relies.

The US, and even Britain, may yet impose asset freezes on various shady post-Soviet industrialists. We’ve got to exercise serious caution here too. While Russian individuals and firms had $160bn in foreign banks as of September 2013, according the Bank for International Settlements, Western banks alone have $242bn of exposure to Russia.

“The international community rounds on Russia”, screamed the headline of a leading Western business newspaper last week. Actually, in China, India, Brazil, and most of Africa and Asia, there’s an overwhelming sense of Western hypocrisy. So sanctions on Russia, while economically illiterate, make little diplomatic sense either.